Fiscal deficit on course to exceed £300bn in 2020-21

The UK reported a £19.1bn fiscal deficit in February 2021, bringing the total shortfall over eleven months to £278.8bn. Public sector net debt is up by £333.0bn at £2.13tn.

The latest public sector finances released on Friday 19 March reported a deficit of £19.1bn for February 2021, as COVID-related spending continued to weigh on the public finances. This brought the cumulative deficit for the first eleven months of the financial year to £278.8bn, £228.2bn more than the £50.6bn reported for the same period last year.

The reported deficit for the eleven months excludes £27.2bn in potential business loan write-offs that the Office for Budget Responsibility (OBR) has included in its forecast deficit of £354.6bn for the full financial year.

Falls in VAT, corporation tax and income tax receipts and the waiver of business rates were the principal driver of lower tax revenues over the last eleven months, while large-scale fiscal interventions have resulted in much higher levels of expenditure. Net investment is greater than last year (mostly as planned), while the interest line has benefited from ultra-low interest rates.

Public sector net debt increased to £2,131.2bn or 97.5% of GDP, an increase of £333.0bn from the start of the financial year and £347.2bn higher than in February 2020. This reflects £54.2bn of additional borrowing over and above the deficit, much of which has been used to fund coronavirus loans to businesses and tax deferral measures.

The cash outflow (the ‘public sector net cash requirement’) for the month was £11.4bn, increasing the cumulative total cash outflow this financial year to £322.3bn. This is a significant swing from the cumulative net cash inflow of £10.9bn reported for the equivalent eleven-month period in 2019-20.

The combination of receipts down 5%, expenditure up 27% and net investment up 21% has resulted in a deficit for the eleven months to February 2021 that is around five times as much as the budgeted deficit of £55bn for the whole of the 2020-21 financial year set in the Spring Budget in March, despite interest charges being lower by 27%.

Alison Ring, ICAEW Public Sector Director said: “Today’s numbers are in line with expectations, with the deficit for the past 11 months reaching £278.8bn. This means we are on track for public sector net borrowing to exceed £300bn for the full year once a potential £27bn in bad debts that have not yet been recorded are factored in.

“Our eyes are now focused on what possible tax measures, in addition to the planned corporation tax rise, the government might use to start rebuilding the public finances.”

Table: public sector finances month ended 28 February 2021. Analyses deficit of £19.1bn for month and variances from same month last year.

Click on link at the end of the post to ICAEW article for a readable version of the table.
Table: public sector finances 11 months ended 28 February 2021. Analyses deficit of £278.8bn and change in net debt of £333.03bn and variances from same period last year, together with net debt of £2,131.2bn or 97.5% of GDP.

Click on link at the end of the post to ICAEW article for a readable version of the table.
Table: month by month analysis of receipts, expenditure, interest, net investment and the fiscal deficit for the 11 months to 28 February 2021.
 
Click on link at the end of the post to ICAEW article for a readable version of the table.
Table: month by month analysis of receipts, expenditure, interest, net investment and the fiscal deficit for the prior year.
 
Click on link at the end of the post to ICAEW article for a readable version of the table.

Caution is needed with respect to the numbers published by the ONS, which are expected to be repeatedly revised as estimates are refined and gaps in the underlying data are filled.

The ONS made a number of revisions to prior month and prior year fiscal numbers to reflect revisions to estimates and changes in methodology. These had the effect of reducing the reported fiscal deficit in the first ten months from £270.6bn to £259.7bn and increasing the reported deficit for 2019-20 from £57.1bn to £57.7bn.

This article was originally published by ICAEW.

ICAEW chart of the week: Debt to GDP ratio

12 March 2021: This week’s chart illustrates how an expected increase of £1tn of additional public debt between 2020 and 2026 translates into the debt to GDP ratio.

Chart showing public sector net debt increased from £1,798bn (84.4% of GDP) at March 2020 to £2,747bn (109.7%) at March 2024 and £2,804bn (103.8%0 at March 2026.

This week’s #icaewchartoftheweek illustrates how a trillion pounds of extra public debt translates into the debt to GDP ratio. This rises from 84.4% last March to a forecast peak of 109.7% in 2024 before falling to 103.8% in 2026, according to the medium-term economic and fiscal forecasts from the Office for Budget Responsibility (OBR) that accompanied the Spring Budget. These forecast a rise in public sector net debt from £1.8tn at 31 March 2020 to £2.8tn at 31 March 2026.

Most of the additional borrowing is expected to occur in the period to March 2024, with £781bn (equivalent to 35.2% of a year’s GDP) borrowed to fund four years of deficits – an estimated £355bn (16.9% of GDP) in the current financial year and forecast deficits of £234bn (10.3% of GDP), £107bn (4.5% of GDP) and £85bn (3.5% of GDP) in 2021-22 through 2023-24 respectively. A further £168bn (7.5% of GDP) is needed over that same period to fund lending and working capital requirements.

Despite borrowing the equivalent of 42.7% of GDP, the debt to GDP ratio is expected to increase by a smaller amount – 25.3% of GDP from 84.4% at 31 March 2020 to 109.7% of GDP at 31 March 2024. This reflects an increase in the denominator for GDP, as a combination of inflation and economic growth ‘inflate away’ the debt by the equivalent of 17.4% over four years. This effect appears quite large, given the annualised growth of 0.7% a year forecast over the four years (comprising a 12% fall during the current financial year followed by growth of 10% in the coming financial year, 5% in 2022-23 and 1.5% in 2023-24) and an average GDP deflator inflation rate of 1.8%, but the magic of compounding, combined with timing differences in the value for GDP used in the calculation all multiply up.

The following two years see the forecast debt to GDP ratio decline to 103.8%. Debt is only expected to increase by £57bn (or 2.2% of GDP) over these two years because lending to businesses during the pandemic is expected to be repaid, reducing the £148bn (5.7% of GDP) needed to fund deficits of £74bn (2.9% of GDP) in 2024-25 and £74bn (2.8% of GDP) in 2025-26 by a net cash inflow of £91bn (3.5% of GDP). As a consequence, the debt to GDP ratio is forecast to drop by 5.9% overall once 8.1% of ‘inflating away’ is taken into account.

As with all forecasts, the reality will be different. A stronger economic recovery would both reduce the need for borrowing and increase the size of GDP at the same time, accelerating the decline in the debt to GDP ratio. A weaker recovery combined with higher spending in response to pressures on public services and/or higher interest rates might do the reverse. Either way, the debt to GDP is likely to remain at a significantly higher level than the pre-financial crisis 34% seen in 2008 for many years, if not decades, to come.

This chart was originally published by ICAEW.

ICAEW chart of the week: an unsustainable path

26 February 2021: The Chancellor needs to build a bridge to economic recovery in his first Budget on Wednesday, focusing on jobs, exports and investment. But with the OBR’s official projections showing public debt to be on an unsustainable path, what vision will he set out for the public finances in the long-term?

The Spring Budget announcement on Wednesday will primarily be about the government’s fiscal budget for the financial year commencing 1 April 2021. The UK is still in the midst of a major health emergency and in a difficult economic situation, and the announcement is likely to provide for an extension of support measures for businesses and individuals affected by the pandemic, funding for under-pressure public services and stimulus measures to drive economic growth once restrictions are lifted, particularly in the second half of the financial year. 

In the absence of a formal fiscal strategy event in the Parliamentary calendar, the Budget is also the main forum the Chancellor has to discuss the medium and long-term prospects for the public finances. This includes considering the five-year fiscal forecasts prepared by the Office for Budget Responsibility (OBR), as well as setting out any medium-term fiscal rules the government might want to use in determining its tax and spending plans and in demonstrating financial credibility with debt investors and citizens.

What is often less discussed is the long-term path for the public finances, which – as the #icaewchartoftheweek illustrates – is on an unsustainable path according to the official 50-year fiscal projections prepared by the OBR last July.

These projections indicate that, in the absence of government action, public debt will rise steadily over the next fifty years as public spending grows in line with anticipated demand, and increasing amounts of borrowing will be needed to cover the shortfall between that spending and the amount collected in taxes. It is important to understand that these projections were already on this path before the pandemic arrived and the principal difference between the OBR’s 2020 and 2018 projections is that the initial level of debt has increased from in the order of 80% to just over 100% of GDP. The starting point may be higher, but the fundamental issues haven’t changed.

This financial backdrop permeates every Budget and is the reason the Chancellor finds himself constrained in the choices he can make, despite ultra-low interest rates that currently permit him to borrow huge sums for one-off expenditures at almost no cost. He doesn’t have the same freedom when it comes to permanent increases in spending, whether that be on health, social care, welfare, education, defence or other public services, especially if he wants to minimise the scale of any potential tax increases. Of course, higher economic growth would help – but as successive Chancellors have found that is not so easy to deliver.

So while much of the focus on the Budget on Wednesday will be on the short-term extension of the life support package for individuals and businesses while restrictions remain in place and the economic stimulus thereafter, the Chancellor’s words will also be scrutinised for his vision on the direction of travel for the public finances beyond the end of the next financial year.

This chart was originally published by ICAEW.

A difficult winter ahead for the public finances

23 December 2020: The UK public sector incurred a £31.6bn deficit in November, bringing the total shortfall over eight months to £240.9bn. Debt reached an all-time high of £2.1tn.

Commenting on the latest public sector finances for November 2020, published on Tuesday 22 December 2020 by the Office for National Statistics (ONS), Alison Ring sector director at ICAEW, said: 

“A slightly more optimistic forecast for GDP from the Office for Budget Responsibility last month resulted in the UK’s debt to GDP ratio being revised downwards, despite public sector debt having reached an all-time high of £2.1tn in November. However, this optimism may prove to have been premature, with reports suggesting another national lockdown in the new year and disruption in international trade foretelling a potentially difficult winter ahead for the economy and the public finances. 

Prospects for the spring will depend on how quickly the vaccine can be rolled out, whether testing and tracing can deliver rapid and reliable results, and the extent to which disruption at borders now and after 1 January can be minimised.”

Public sector finances for November

The latest public sector finances reported a deficit of £31.6bn in November 2020, a cumulative total of £240.9bn for the first eight months of the financial year. This is £188.6bn more than the £52.3bn recorded for the same period last year.

Falls in VAT, corporation tax and income tax drove lower receipts, while large-scale fiscal interventions resulted in much higher levels of expenditure. Net investment is greater than last year, as planned, while the interest line has benefited from ultra-low interest rates.

Public sector net debt increased to £2,099.8bn or 99.5% of GDP, an increase of £301.6bn from the start of the financial year and £303.0bn higher than in November 2019. This reflects £60.7bn of additional borrowing over and above the deficit, most of which has been used to fund coronavirus loans to business and tax deferral measures.

Table of results for the month of November and for the 8 months then ended, together with variances against the prior year. Click on the link at end of post to visit the original ICAEW article for a readable version.

The combination of receipts down 8%, expenditure up 29% and net investment up 26% has resulted in a deficit for the eight months to November 2020 that is over four times the budgeted deficit of £55bn for the whole of the 2020-21 financial year set in the Spring Budget in March, despite interest charges being lower by 26%. The cumulative deficit is approaching five times as much as for the same eight-month period last year.

Cash funding (the ‘public sector net cash requirement’) for the month was £20.7bn, bringing the cumulative total this financial year to £295.8bn, compared with £14.9bn for the same eight-month period in 2019. 

Interest costs have fallen despite much higher levels of debt, with extremely low interest rates benefiting both new borrowing to fund government cash requirements and borrowing to refinance existing debts as they have been repaid.

The deficit remains on track to approach the £393.5bn forecast for the financial year to March 2021 by the Office for Budget Responsibility in the Spending Review once bad debts not yet recognised on coronavirus loans are included.

Upwards revisions to GDP based on the latest Office for Budget Responsibility forecasts have reduced the debt to GDP ratio for this and previous months to below 100% of GDP. However, the likelihood of a further national lockdown in the new year and for disruption in international trade with the end of the EU transition period could depress prospects for GDP growth in 2021.

Table of results each of the 8 months to November 2020. Click on the link at end of post to visit the original ICAEW article for a readable version.
Table of results each of the 8 months to November 2019 and of the 12 months ended 31 March 2020. Click on the link at end of post to visit the original ICAEW article for a readable version

Caution is needed with respect to the numbers published by the ONS, which are expected to be repeatedly revised as estimates are refined and gaps in the underlying data are filled.

The ONS made a number of revisions to prior month and prior year fiscal numbers to reflect revisions to estimates and changes in methodology. These had the effect of reducing the reported fiscal deficit in the first seven months from the £214.9bn reported last time to £209.3bn and increasing the reported deficit for 2019-20 from £56.1bn to £57.4bn.

This article was originally published by ICAEW.

ICAEW chart of the week: Government bond yields

11 December 2020: Ultra-low or negative yields provide governments with an opportunity to borrow extremely cheaply, but what will happen if and when interest rates rise?

Government 10-year bond yields

Germany -0.61%, Switzerland -0.59%, Netherlands -0.53%, France -0.36%, Portugal -0.02%, Japan +0.01%, Spain +0.02%, UK +0.26%, Italy +0.58%, Greece +0.60%, Canada +0.76%, New Zealand +0.91%, USA +0.95%, Australia +1.02%

On 9 December, the benchmark ten-year government bond yield for major western economies ranged from -0.61% for investors in German Bunds through to 0.95% for US Treasury Bonds and 1.02% for Australia Government Bonds, as illustrated in the #icaewchartoftheweek.

One of the more astonishing developments of the last decade or so has been the arrival of an era of ultra-low or negative interest rates, even as governments have borrowed massive sums of money to finance their activities. This is not only a consequence of weak economic conditions and the slowing of productivity-led growth, but it has also been driven by the monetary policy actions of central banks through quantitative easing operations that have driven down yields by buying long-term fixed interest rate government bonds in exchange for short-term variable rate central bank deposits.

For bond investors this has been a wild ride, with the value of existing bonds sky-rocketing as central banks have come calling to buy a proportion of their holdings, crystallising their gains. The downside is the extremely low yields available to debt investors on fresh purchases of government bonds, which in some cases involve paying governments for the privilege of doing so.

Yields vary according to maturity, with yields on UK gilts ranging from -0.08% on two-year gilts through to 0.26% for 10-year gilts (as shown in the chart) up to 0.81% on 30-year gilts. In practice, the UK issues debt with an average maturity between 15 and 20 years, so the current average cost of its financing is higher than that shown in the chart at between 0.48% and 0.77% being the yields on 15-year and 20-year gilts respectively. This has the benefit of locking in low interest rates for longer, in contrast with most of the other countries shown that tend to issue debt with an average maturity of less than ten years.

Quantitative easing complicates the picture, as by repurchasing a significant proportion of government debt and swapping it for central bank deposits, central banks have reversed the security of fixed interest rates locked in to maturity with a variable rate exposure that will hit the interest line immediately if rates change. 

In theory, this should not be a problem, as higher interest rates are most likely to accompany stronger economic growth and hence higher tax revenues with which to pay the resultant higher debt interest bills, but in practice treasury ministers are not so sanguine. In leveraging public balance sheets to finance their responses to COVID-19 – on top of the legacy of debt from the financial crisis – governments have significantly increased their exposure to movements in interest rates, just as other fiscal challenges are growing more pressing.

Expect to hear a lot more over the coming decade about the resilience of public finances as governments seek to reduce gearing and reduce their vulnerability to the next unexpected crisis, whenever that may occur.

This chart was originally published on the ICAEW website.

Half-year deficit reaches £208bn as COVID costs accumulate

22 October 2020: Public finances remain on track for the worst peace-time deficit ever, thanks to lower receipts and large-scale coronavirus interventions.

The latest public sector finances reported a deficit of £36.1bn in September 2020, a cumulative total of £208.5bn for the first six months of the financial year.

Falls in VAT, corporation tax and income tax drove lower receipts, while large-scale fiscal interventions resulted in much higher levels of expenditure. Net investment is greater than last year, as planned, while the interest line has benefited from ultra-low interest rates.

Public sector net debt increased to £2,059.7bn or 103.5% of GDP, an increase of £259.2bn from the start of the financial year and £274.0bn higher than in September 2019. This reflects £50.7bn of additional borrowing over and above the deficit, most of which has been used to fund coronavirus loans to business and tax deferral measures.

Commenting on the figures Alison Ring, ICAEW Director for Public Sector, said: “The deficit of £208bn is already more than the full-year deficit at the height of the financial crisis a decade ago and remains on track to be the largest ever outside the two world wars. 

“The economic damage caused by the pandemic in the first half of the fiscal year was not as bad as originally feared, thanks in part to the extraordinary level of financial support provided by the Chancellor. However, the second wave is putting further strain on the public finances as new regional restrictions are placed on economic activity.

To help the recovery the Chancellor must take the opportunity at the Autumn Statement and Spending Round to invest in preparing infrastructure projects to start as soon as possible.”

Image of table showing public finances for month of September and six months to September together with variances from last year. Click on link to the article on the ICAEW website for a readable version.

The combination of receipts down 11%, expenditure up 34% and net investment up 37% has resulted in a deficit for the six months to September 2020 that is approaching four times the budgeted deficit of £55bn for the whole of the 2020-21 financial year set in the Spring Budget in March. This is despite interest charges being lower by 24%. The cumulative deficit is more than six times as much as for the same six-month period last year.

Cash funding (the ‘public sector net cash requirement’) for the six months was £257.8bn, compared with £7.1bn for the same period in 2019.

Interest costs have fallen despite much higher levels of debt, with extremely low interest rates benefiting both new borrowing to fund government cash requirements and borrowing to refinance existing debts as they have been repaid.

The Institute for Fiscal Studies’ recent IFS Green Budget 2020 annual pre-Budget report indicated that the deficit for the full year to March 2021 could reach £350bn or 17% of GDP.

Some caution is needed with respect to the numbers published by the ONS, which are expected to be repeatedly revised as estimates are refined and gaps in the underlying data are filled. In particular, the OBR points out that the ONS has yet to record any allowance for losses that might arise on the more than £100bn of tax deferrals, loans and guarantees provided to support businesses through the pandemic.

Image of table showing public finances for each month to September 2020 and for each month to September 2019. 

Click on link to the article on the ICAEW website for a readable version.

The ONS made a number of revisions to prior month and prior year fiscal numbers to reflect revisions to estimates and changes in methodology. These had the effect of reducing the reported fiscal deficit in the first five months from the £173.7bn reported last time to £172.4bn and reducing the reported deficit for 2019-20 from £55.8bn to £54.5bn.

For further information, read the public sector finances release for September 2020.

This article was originally published on the ICAEW website.

ICAEW chart of the week: UK debt financing requirement

16 October 2020: The Institute for Fiscal Studies annual pre-Budget report forecasts a doubling to £1.5tn in the amount of debt to be raised by the UK Government over the next five years.

UK debt financing requirement by year from 2020-21 to 2024-25, adding up to £757bn (March 2020 budget), £1,305bn (optimistic), £1,536bn (central) and £1,789bn (pessimistic forecast).

Although the Budget itself may have been delayed, the IFS Green Budget 2020 has been published on schedule, with a wealth (if that is the right word in the current context) of analysis on the economy and the public finances. 

With £201bn in discretionary measures and a £95bn economic impact from the coronavirus pandemic, the IFS is forecasting that the deficit will reach £350bn in the current financial year. At 17% of GDP, this is a level never before seen in the UK outside of the two world wars. 

Unfortunately, the effect of the pandemic on public finances will not be restricted to this financial year. Even if the economy recovers in 2021, or more likely in 2022, tax revenues will be significantly lower and spending significantly higher than they were previously expected to be.

This is perhaps best highlighted by looking at the UK Government’s gross financing requirement – the amount that the UK Debt Management Office (DMO) will be tasked with raising from external debt investors over the next five years to finance the shortfall in taxes compared with spending (the deficit), to finance business and other lending and to repay existing debts as they fall due. This is forecast by the IFS to double to £1.5tn in their central forecast, within a range from £1.3tn in a more optimistic scenario to £1.8tn in a more pessimistic scenario.

As the IFS points out, the enormous amount of debt being issued means that even small differences in financing costs will have a very large impact on the public finances. This is despite the sizeable proportion of debt being issued with long maturities (as long as 50 years in some case) that are locking in extremely low interest rates for decades to come.

Reducing interest costs on debt has provided the Chancellor with room to provide the unprecedented levels of financial support to the UK economy that we saw over the summer. The prospect of negative nominal rates could see investors paying the Government rather than the other way round, providing headroom for further interventions.

There is a downside, of course. The ‘good times’ of ultra-low interest rates may not last for ever, and with a central debt forecast at 31 March 2025 of 112% of GDP significantly higher than the 35% of GDP before the financial crisis a dozen years ago the exposure to changes in interests is that much more significant.

To find out more about the latest forecasts for the economy and the impact that will have on the public finances, please do read the IFS Green Budget 2020.

This chart was originally published by ICAEW.

Public sector debt hits £2tn for the first time

21 August 2020: The fiscal deficit of £150.5bn for the four months to July 2020 is almost triple the £55bn budgeted for the entire financial year.

The latest public sector finances for July 2020 published by the Office for National Statistics (ONS) on Friday 21 August 2020 reported a deficit of £26.7bn in July 2020, following on from £123.8bn for the three months to June 2020 (revised from £127.9bn reported last time).

Public sector net debt increased to £2,004.0bn or 100.5% of GDP, an increase of £198.3bn from the start of the financial year and £227.6bn higher than in July 2019. This is the first time this measure has exceeded £2tn, a major milestone that has arrived several years earlier than anticipated as a consequence of the pandemic.

Image of table showing variances against prior year. Go to the ICAEW website at the end for the table itself.

The combination of lower tax receipts and much higher levels of public spending has resulted in a deficit for the four months to July 2020 that is almost triple the budgeted deficit of £55bn for the whole of the 2020-21 financial year set in the Spring Budget in March, and almost seven times as much as the same period last year.

Cash funding (the ‘public sector net cash requirement’) for the four months was £199.1bn, compared with £5.4bn for the same period in 2019.

Interest costs have fallen despite much higher levels of debt, with extremely low interest rates benefiting both new borrowing to fund government cash requirements and borrowing to refinance existing debts as they have been repaid.

Some caution is needed with respect to the numbers published by the ONS, which are expected to be repeatedly revised as estimates are refined and gaps in the underlying data are filled. In particular, the OBR points out that the ONS has yet to record any allowance for losses that might arise on the more than £100bn of tax deferrals, loans and guarantees provided to support businesses through the pandemic.

Commenting on the latest figures Alison Ring FCA, director for public sector at ICAEW, said:

“The positive news for the Government is that despite debt reaching £2tn, low interest rates have reduced its cost, and its growth is slowing as the exceptional support measures to deal with the pandemic are withdrawn and furloughed employees return to work.

“The big question is how much permanent damage is being done to the economy, with accelerating job losses a concerning sign as we approach the autumn. How quickly debt continues to grow will also depend on any additional support that the Government might provide to sectors that are still struggling.”

Image of tables showing monthly breakdown for April through July 2020 and 2019. Go to the ICAEW website at the end for the tables themselves.

For further information, read the public sector finances release for July 2020.

This article was originally published on the ICAEW website.